If Bill Gross Sees U.S. as Shaky, Check Japan: William Pesek

This question leaps to the mind navigating the ruins of
Japanese cities like Tagajo. Skylines now look as if Dali’s
surrealist brush had a hand in rendering things so out of place.
Escher’s mind seems at work, too. Interlocking shapes that
shouldn’t exist in the three-dimensional world litter cityscapes
that before March 11’s earthquake and tsunami were pretty run of
the mill.

The mess one confronts in the northeast -- flattened
buildings, fleets of destroyed Toyotas at ports, ships sitting
in the middle of streets, the search for bodies -- graphically
demonstrates why Standard & Poor’s is so worried about Japan.
Concerned about the magnitude of the reconstruction bill, S&P
cut Japan’s rating outlook.

So is Japan on the verge of a debt crisis? No, and that may
just be the problem.

Rising stocks and bond prices show traders aren’t buying
the despair about Japan’s finances. They are focusing on the
nation’s $15 trillion of household savings, the government’s
latitude to raise taxes and the fact that about 95 percent of
public debt is held domestically.

Yet Japan’s day of reckoning will arrive at some point, and
the longer it’s delayed, the worse it will be. This is an ideal
moment for the bond vigilantes, who from time to time take
matters into their own hands and boost yields, to teach Japan a
lesson. Nothing of the sort is happening.

Keep Borrowing

On Wednesday, the day S&P threatened to downgrade Japan,
credit-default swaps protecting government debt for five years
returned to their pre-March 11 trading range. The message to
politicians: By all means, continue borrowing with abandon.

It’s not unlike what’s afoot in the U.S. Negativity about
America’s budget deficit has investors like Bill Gross, who runs
the world’s biggest bond fund at Pacific Investment Management
Co., abandoning Treasuries. Bond dealers disagree, as evidenced
by the 3.32 percent yield on the 10-year note. Broadly speaking,
the bond market doesn’t seem worried about the U.S.

Looked at through this lens, traders are even less
perturbed by Japan’s debt load; 10-year yields are a paltry 1.2
percent. One explanation for why markets are ignoring S&P is
that credit rating companies, wrong on just about every major
crisis of the last 15 years, have lost all credibility in Asia.

Complacent Markets

The more worrisome one is that markets are complacent. It’s
hard not to draw this conclusion when you trek around the Sendai
region, which was inundated by the tsunami. From my vantage
point, the initial $300 billion reconstruction estimates are
fanciful. So, too, might be S&P’s suggestion that the price tag
would, at the high end, be $613 billion. It may cost far more.

The challenges that held Japan back before the quake are
more acute now. The one most evident in the tsunami zone is how
an aging and shrinking population symbolizes the decline of
economic life in rural areas. The question isn’t just how to
rebuild, but whether to even bother in some places.

There’s also the question of when to start. Economic logic
tells you to begin right away. After a 1995 quake, the city of
Kobe acted fast and vibrant growth followed. Such thinking is
callous and borderline immoral to the likes of Shintaro
Takegawa.

Takegawa, 57, is a Sendai truck driver whose company lost
more than 90 percent of its fleet when the oceans poured into
the city center. He was intrigued to see a wandering foreigner
in his midst and offered me a ride back to the train station, a
few kilometers from Sendai’s main port.

Why the Hurry?

“There is a big hurry to rebuild, but we have to have
respect for the dead and the missing -- more than 25,000
people,” Takegawa explains. “Why can’t we wait a few months?”

This sentiment is common in Japan’s northeast. I heard it,
for example, from police officers in the city of Natori, which
was literally wiped off the map last month. My Bloomberg News
colleagues who have traveled extensively around Tohoku since
March 11 routinely encounter it, too. It underscores the
challenges facing a nation anxious to dispatch construction
crews.

The nuclear crisis in Fukushima is another wild card. This
week, electronics maker Sharp Corp. became the latest company to
delay making forecasts for this year, citing difficulty in
estimating the financial toll of the last several weeks.

Japan is in bizarre economic territory. Bank of Japan
Governor Masaaki Shirakawa isn’t exaggerating when he says the
economy faces “strong downward pressure.” That dynamic,
coupled with the cost of rebuilding Tohoku, means issuing lots
of new debt.

You would think that with Japan’s debt-to-gross domestic
product ratio -- already 200 percent -- set to widen, traders
would be wary. You would think a nation with a shrinking
population would be chastened by markets for over-borrowing and
forced to find another way to boost growth.

No, traders are saying all is well and giving Japan the
green light to sell bonds. One can only imagine the market
surrealism that will begin once that light turns yellow or,
worse, red.

(William Pesek is a Bloomberg News columnist. The opinions
expressed are his own.)